Copart Insider's Case Doesn't Convince

 | Jun 14, 2013 | 10:00 AM EDT  | Comments
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According to a Form 4 filed with the Securities and Exchange Commission, John Lindle, senior vice president of strategic growth at the auto auctioneer Copart (CPRT), directly purchased 4,500 shares of the stock on June 7 at an average price of $32.22 per share.

Studies show a small outperformance effect for stocks bought by insiders, and this makes sense, since insiders already have an economic connection to the company. Tying more of their wealth to the company, in addition to their income, should be avoided in favor of diversification unless the insider is particularly confident in the company's prospects. As a result, we believe it can be wise to review recent insider purchases to see if any interesting picks come up, similar to how many investors use stock screens.

Copart is a $4 billion market cap company that manages an online auto auction site used by insurers, financial institution and other customers to sell cars to dismantlers (who can extract useful parts from the car) and rebuilders. The third quarter of the company's fiscal year ended in April, and its most recent 10-Q recorded a 14% increase in revenue from a year earlier. This is a slight increase from what Copart did in the first half of the fiscal year, as year-to-date numbers on the top line show a double-digit growth rate. Costs have been up as well, however, and operating income and earnings were actually down in the fiscal third quarter (with very little change in the first nine months of the year compared with the same period in the previous one).

Investors are expecting the recent struggles in earnings terms to end, as shown by the fact that Copart currently trades at 23x trailing earnings. Wall Street analysts expect that the business will deliver $1.78 in earnings per share in the forward fiscal year, which ends in July 2014; that would signify a forward P/E of 18. So even after that point, Copart would have to show moderate to high growth in earnings per share for the next few years thereafter in order to justify the current stock price.

Copart does carry a beta of only 0.6, and it makes sense that the company would be fairly insulated from broader economic conditions. We'd note that value and activist investor Barry Rosenstein's JANA Partners had Copart as one of its five largest holdings as of the end of March, and JANA has suggested that Copart could convert to a real estate investment trust and therefore receive favorable tax treatment.

The closest peer for Copart is KAR Auction Services (KAR). KAR seems to have been more successful at holding down its costs. In the first quarter of 2013, KAR's revenue and net income both rose at about the same rate -- 10% to 12%. This is a bit slower growth in sales terms, but it's certainly good to see margins holding steady. While KAR is valued at a significant premium to Copart on a trailing earnings basis, analysts are calling for earnings to continue to rise at a decent clip, and so the stock trades at 16x forward earnings estimates -- essentially even with Copart, since its forward fiscal year ends in December 2014 as opposed to July. We suppose it's possible that KAR could continue to outperform, but we're still skeptical that it will improve to this great a degree relative to its slightly larger peer.

There is some potential upside for Copart related to REIT conversion, although there have been indications that the Internal Revenue Service is about to tighten its definition of "real estate" for REIT purposes, and we're not sure that the company's activities would remain in bounds. While it's worth keeping track of insider buying activity, Copart's most recent quarter doesn't exactly fill us with confidence, so until there are more positive developments on either the business front or in the prospects of the company becoming a REIT, we wouldn't recommend buying the stock.

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